Revised Summer 2015 ACTIVITY BASED COSTING Key Topics to Know Job Costing relied on a single plantwide overhead rate. Departments with very different processes may use departmental overhead rates instead of a single plantwide rate to improve accuracy. Differences between activity-based costing and a traditional costing system (either single rate or multiple rates) Understand the ABC methodology: o How to compute activity rates for cost pools. o How to assign costs to products. o How to compute overhead cost per unit for each product. o How to compute total unit cost for each product. o How to apply overhead to production in work-in-process. o Explain why product costs computed under activity based costing and conventional costing methods differ. Flow of costs in an activity based costing system. Page 1 of 14 Revised Summer 2015 Problems Problem #1 Cabalo Company manufactures two products, Product C and Product D. The company estimated it would incur $130,890 in manufacturing overhead costs during the current period. Overhead currently is assigned to the products on the basis of direct labor hours. Data concerning the current period’s operations appear below: Product C Product D Estimated volume 400 units 1,200 units Direct labor hours per unit 0.70 hour 1.20 hours Direct material cost per unit $10.70 $16.70 Direct labor cost per unit $11.20 $19.20 Management is considering using activity-based costing to apply manufacturing overhead cost to products for external financial reports. The activity-based costing system would have the following three activity cost pools: Estimated Activity Cost Pool Activity Measure Overhead Cost Machine setups Number of setups $ 13,570 Purchase Orders Number of purchase orders 91,520 General Factory Direct labor hours 25,800 Activity Measure Product C Product D Total Number of setups 100 130 230 Number of purchase orders 810 1,270 2,080 Number of direct labor hours 280 1,440 1,720 Required: a) Compute the predetermined overhead rate under the current method and determine the unit product cost of each product. b) Determine the activity rate (i.e. predetermined overhead rate) for each cost pool c) Compute the total amount of manufacturing overhead cost that would be applied to each product using the activity-based costing system. After these totals have been computed, determine the amount of manufacturing overhead cost per unit of each product. d) Compute the unit product cost of each product. e) Compute the overhead applied to work-in-process using both traditional costing and ABC for a job with the following actual activity: Page 2 of 14 Revised Summer 2015 Activity Measure Job Number of setups 10 Number of purchase orders 40 Number of direct labor hours 60 Problem #2 Vassallo Corporation's activity-based costing system has three cost pools: Machining, Set Up, and Other. The company's overhead costs, which consist of equipment depreciation and indirect labor, are allocated to the cost pools in proportion to the activity cost pools' consumption of resources. Equipment depreciation $64,000 Indirect labor 4,000 Distribution of Resource Consumption by Cost Pool Machining Set Up Other Total Equipment depreciation $12,800 $19,200 $32,000 $64,000 Indirect labor 2,000 400 1,600 4,000 Total $14,800 $19,600 $33,600 $68,000 Costs in the Machining cost pool are assigned to products based on machine-hours (MHs) and costs in the Setting Up cost pool are assigned to products based on the number of batches. Costs in the Other cost pool are not assigned to products. MHs Batches Product R3 3,800 300 Product D6 16,200 700 Additional data concerning the company's products appears below: Product R3 Product D6 Sales $168,700 $185,600 Direct materials 77,800 72,300 Direct labor 75,800 79,300 Required: a) Calculate activity rates for each activity cost pool using ABC. b) Determine the amount of overhead cost that would be assigned to each product using ABC. c) Determine the product margins for each product using ABC. Page 3 of 14 Revised Summer 2015 Problem #3 Wasden Corporation has an activity-based costing system with three activity cost pools- Processing, Setting Up, and Other. Costs in the Processing cost pool are assigned to products based on machine-hours (MHs) and costs in the Setting Up cost pool are assigned to products based on the number of batches. Costs in the Other cost pool are not assigned to products. Data concerning the two products and the company's costs and activity-based costing system appear below: Processing $12,200 Setting Up 25,100 Other 17,700 MHs Batches Product C7 2,400 700 Product P8 17,600 300 Product C7 Product P8 Sales $135,700 $98,000 Direct materials 61,700 31,000 Direct labor 52,200 45,800 Required: a) Calculate activity rates for each activity cost pool using activity- based costing. b) Determine the amount of overhead cost that would be assigned to each product using activity-based costing. c) Determine the product margins for each product using activity- based costing. Problem #4 Maynard Manufacturing Company allocates overhead in the Machining Department on the basis of machine hours, while in the Assembly Department overhead is allocated on the basis of direct labor cost. The following budget data are provided: Machining Assembly Manufacturing overhead $500,000 $1,075,000 Direct labor 350,000 500,000 Machine hours 100,000 10,000 Direct labor hours 50,000 150,000 Page 4 of 14 Revised Summer 2015 The following information is provided for a job (Job No. 510) recently completed by the company: Machining Assembly Manufacturing overhead $25,000 $37,500 Direct labor 10,000 12,500 Machine hours 5,000 1,000 Direct labor hours 2,000 3,000 Required: a) Compute the two departmental overhead rates. b) Compute the cost of Job No. 510. c) Assume that the company decides to use a single overhead rate for the two departments, calculated by adding their overhead costs and using direct labor hours as the allocation base. What would the overhead rate be, and how much manufacturing overhead cost would be assigned to Job No. 510? Page 5 of 14 Revised Summer 2015 Multiple Choice Questions The next 4 questions refer to the following information. Bruton, Inc. produces two different products using two different activities: Machining, which uses machine hours as an activity driver, and Inspection, which uses number of batches as an activity driver. The cost of Machining is $500,000, while the cost of Inspection is $30,000. Usage of the activity drivers are as follows: Product A Product B Total Machine hours 1,000 3,000 4,000 Number of batches 45 15 60 Product A is assigned $125,000 in Machining cost, and $22,500 in Inspection cost. Product B uses 75% of total machine hours and 25% of total batches. 1. What is the activity rate for Inspection? a) $125 per batch b) $500 per batch c) $667 per batch d) $2,000 per batch 2. What is the total Inspection cost assigned to Product A? a) $7,500 b) $22,500 c) $125,000 d) $375,000 3. What is the total activity cost assigned to Product B? a) $7,500 b) $147,500 c) $375,000 d) $382,500 4. What proportion of Machining activity is used by Product A? a) 25% b) 33% c) 67% d) 75% Page 6 of 14 Revised Summer 2015 5. Which of the following is most likely to be true of the manufacturing overhead costs assigned to a product with relatively low volume and high complexity? a) An ABC system will assign more manufacturing overhead costs to the product than a volume-based system. b) A volume-based system will assign more manufacturing overhead costs to the product than an ABC system. c) An ABC system will assign the same manufacturing overhead costs to the product as a volume-based system. d) An ABC system will assign manufacturing overhead costs to the product, while a volume-based system will not. 6. Buhl manufactures a product that uses $15 in direct materials and $5 in direct labor per unit. Under the traditional costing system Buhl uses, manufacturing overhead applied to each unit is $12. Buhl is considering switching to an ABC system, under which the total activity cost would be $25. What is the total manufacturing cost per unit for Buhl under the ABC system? a) $20 b) $25 c) $32 d) $45 7. Millner Corporation has provided the following data from its activity-based costing accounting system: Pools Total Cost Total Activity Designing product design $1,372,448 7,798 products hours Setting up $33,300 740 batch set-ups batches Assembling $126,160 6,640 assembly hours products The activity rate for the Designing Products activity cost pool is closest to: a) $101 per hour b) $1,372,448 per hour c) $176 per hour d) $57 per hour Page 7 of 14 Revised Summer 2015 8. In activity-based costing, the activity rate for an activity cost pool is computed by dividing the total overhead cost in the activity cost pool by: a) the direct labor-hours required by the product. b) the machine-hours required by the product. c) the total activity for the activity cost pool. d) the total direct labor-hours for the activity cost pool. 9. Nethery, Inc., manufactures and sells two products: Product U5 and Product X2. The company has an activity-based costing system with the following activity cost pools, activity measures, and expected activity: Expected Activity Estimated Activity Cost Activity Product Product Overhead Total Pools Measures U5 X2 Cost Labor-related DLHs $36,180 2,400 1,200 3,600 Product testing tests 65,760 400 600 1,000 General factory MHs 133,984 4,000 3,900 7,900 $235,924 The total overhead applied to Product U5 under activity-based costing is closest to: a) $141,555 b) $67,839 c) $157,272 d) $118,264 Page 8 of 14 Revised Summer 2015 10.